learning_head wrote:I just got some info from CSR that 3.04% APY rates will be available at least through the END of January.

I just got of the phone with a PenFed rep and they said the same thing. Rates good thru the end of Jan 2014.

Francis

And yet when I talked to a CSR a couple days ago, she said she couldn't guarantee rates would hold even through December! I was thinking of transferring an inherited IRA over but worried that delays would mean that I'd miss the rate (if PenFed reduced it by that time). Who to believe?

According to PenFed Disclosure: "Partial withdrawals are not permitted except for IRA accounts." I was under the mistaken impression that they were; perhaps the terms have changed, but at any rate, for new, non-IRA CDs, no partial withdrawals. The disclosure is included in the application form:

learning_head wrote:
Thanks Kevin - very interesting line of thinking. I am not sure how you got 30 basis points there (should not it just be 100 basis points per year since 100 basis points was already calculated as yearly yield difference?).

G-Money explained it correctly, and I did reference Larry Swedroe, who is the one from whom I learned about this rule of thumb. Assuming 20 basis points is Larry's number (which I believe it is), then you'd want at least 60 basis points more in yield to extend maturity by three years, and you are getting much more than that.

I also mentioned that the risk of extending maturity on a CD probably is less than extending it on a bond fund, and G-Money elaborated somewhat on that as well. My thinking is that by extending bond fund duration by three years, you risk losing about 3% more for each percentage point increase in rates, so if rates increase by more than one percentage point, you could lose more than 3%, but your loss on the PenFed 3% CD is limited to 3%. Also, the maturity of the CD is continually declining, so your term risk (in terms of opportunity cost) on this particular CD declines over time, although if you maintain a rolling ladder of CDs this may not be very relevant.

learning_head wrote:
BTW, I was wondering what would the rates need to be in 2 years to make it break even. If my math is right, rates in 2 years would need to be around 3.52% to reach the break even point between the two approaches, i.e.:

(1+1.85%)^2*(1+3.52%)^3 =~ (1-0.925%)*(1+3%)^5

Noone knows of course if 3.52% rate is likely to be there in 2 years, esp. on 3-year CD; so maybe it's not that useful, not sure.

G-Money agrees with your estimate, so I won't bother thinking about it; I tend to just set up something in a spreadsheet to do these estimates. Unlike G-Money though, rather than assume constant rates, you might look at various yield curves to estimate future rates. Yield curves are at least partially determined by market expectations of future rates. But what yield curve to look at?

Treasury 2yr, 3 yr, 5 yr, 7 yr: 0.3%, 0.6%, 1.43%, 2.16%

This indicates expectation of 30-40 bp increases per year in the 2-7 year range over the next two years, but of course these rates are much lower than comparable CD rates.

CDs, excluding PenFed, 2yr, 3yr, 4yr, 5yr: 1.2%, 1.5%, 1.7%, 2%

Assuming PenFed is a temporary outlier, this indicates 20-30 bp per year, so say 2.6% on a 5-year in two years.

Will be interesting to see if any other banks or CUs raise their rates much to compete with PenFed.

Kevin, G-Money, thanks a lot for your inputs, I've been moving some money into Penfed as a result of your pretty convincing replies. Aside from 1.85% CDs that I have at Penfed, I also had a more recently opened 2% MACU CDs that mature in 4.5 years. I figured these are better candidates to roll into 3% ones than the 1.85%/2yr ones. Also, I decided to grab all my liquid cash lying around and put all of that into 3% CDs too instead of converting more of 1.85% ones. As a result, I now consider 1.85% CDs as my liquid cash (i.e. I am not in a hurry to cash them in but when I need some cash / liquidity, I will use these CDs for such purpose)... after all, I figure there is no point in cash lying around and converting 1.85% to 3% as I would instead convert cash to 3% and use 1.85% as my cash when I need it. Thus, I now have my liquid funds earning 1.85% yearly returns every day I don't cash them in...

Kevin M wrote:Unlike G-Money though, rather than assume constant rates, you might look at various yield curves to estimate future rates. Yield curves are at least partially determined by market expectations of future rates. But what yield curve to look at?

Treasury 2yr, 3 yr, 5 yr, 7 yr: 0.3%, 0.6%, 1.43%, 2.16%

This indicates expectation of 30-40 bp increases per year in the 2-7 year range over the next two years, but of course these rates are much lower than comparable CD rates.

CDs, excluding PenFed, 2yr, 3yr, 4yr, 5yr: 1.2%, 1.5%, 1.7%, 2%

Assuming PenFed is a temporary outlier, this indicates 20-30 bp per year, so say 2.6% on a 5-year in two years.

Will be interesting to see if any other banks or CUs raise their rates much to compete with PenFed.

Kevin

My belief/understanding was that the yield curve reflected the market's estimates of future short-term rates, plus a risk premium. The maturity risk for 2-, 3-, 4-, 5-, 7-year CDs will still exist 2, 3, 4, 5, and 7 years from now, so I would continue to expect a risk premium for going longer. I assume the risk premium will remain relatively constant, hence I expect (in a probabilistic sense) yields on longer maturities to remain about the same in the future as they are today. It's a bit of a tautology, perhaps not even accurate/helpful. But it works for my feeble mind.

If we assume that PenFed's rates are a temporary outlier (and I agree with you that they likely are), it largely answers the question of whether it's worth it to redeem lower yielding CDs to back up the fixed income truck. For the record, I did: I am transferring just about all of my fixed income outside my 401(k) to these PenFed CDs.

As to IRA CDs, partial withdrawals are permitted with no EWP for folks over 59 1/2. A partial withdrawal is defined as any amount such that the IRA CD balance does not drop below the amount required for opening (i.e., $1000).

That said, I doubt PenFed will be flooded with IRA CD custodian-to-custodian transfers. It's a great rate, to be sure*, but how many folks (a) have a rung maturing, or (b) are willing to break? Don't even get me started on the CSRs. Trying to get the enrollment package is a pain in the you-know-what, and I'm already a member! I have a modest IRA CD maturing in late January, I ordered the transfer forms, and am hoping they arrive.

*Well, not as great as the 3.5% on my other two IRA CDs at PenFed, but everything is "relative".

[quote="john94549"]).
Don't even get me started on the CSRs. Trying to get the enrollment package is a pain in the you-know-what, and I'm already a member! I have a modest IRA CD maturing in late January, I ordered the transfer forms, and am hoping they arrive.

Why don't you print your own in the form section? I just printed a transfer form and mailed today. Still expect it take most of a month and hope the rate
will still be on

Yes, I think I've always either gotten the transfer form online or had a rep email it to me (at various banks and CUs). Sometimes you can even email a scanned copy back (or fax it), but it depends on whether or not the current custodian will accept a non-original-hardcopy signature.

G-Money wrote:
My belief/understanding was that the yield curve reflected the market's estimates of future short-term rates, plus a risk premium. The maturity risk for 2-, 3-, 4-, 5-, 7-year CDs will still exist 2, 3, 4, 5, and 7 years from now, so I would continue to expect a risk premium for going longer. I assume the risk premium will remain relatively constant, hence I expect (in a probabilistic sense) yields on longer maturities to remain about the same in the future as they are today.

I don't think it's just short-term rates. The expectations hypothesis applies to all points on the yield curve, but as you mention, there are other hypotheses that probably also apply (e.g., liquidity premium, or as you call it, term-risk premium). So I agree that a more realistic expectation would not attribute all of the curve to expectations hypothesis. But even if the curve was only predicting short-term rates, a positive yield curve, as we have now, would give us higher longer term rates because you'd stack the term premium onto the higher short-term rate.

G-Money wrote:
If we assume that PenFed's rates are a temporary outlier (and I agree with you that they likely are), it largely answers the question of whether it's worth it to redeem lower yielding CDs to back up the fixed income truck.

I agree.

G-Money wrote:
For the record, I did: I am transferring just about all of my fixed income outside my 401(k) to these PenFed CDs.

Great! As mentioned above, it would not be prudent for me to do so. Much of my fixed income is in IRA CDs, and the NCUA insurance limit makes it imprudent for me to break 2% IRA CDs at other institutions and put the money into PenFed. I still need to think about my tax-exempt bond funds though.

Kevin M wrote:Unlike G-Money though, rather than assume constant rates, you might look at various yield curves to estimate future rates. Yield curves are at least partially determined by market expectations of future rates. But what yield curve to look at?

Treasury 2yr, 3 yr, 5 yr, 7 yr: 0.3%, 0.6%, 1.43%, 2.16%

This indicates expectation of 30-40 bp increases per year in the 2-7 year range over the next two years, but of course these rates are much lower than comparable CD rates.

CDs, excluding PenFed, 2yr, 3yr, 4yr, 5yr: 1.2%, 1.5%, 1.7%, 2%

Assuming PenFed is a temporary outlier, this indicates 20-30 bp per year, so say 2.6% on a 5-year in two years.

Will be interesting to see if any other banks or CUs raise their rates much to compete with PenFed.

Kevin

My belief/understanding was that the yield curve reflected the market's estimates of future short-term rates, plus a risk premium. The maturity risk for 2-, 3-, 4-, 5-, 7-year CDs will still exist 2, 3, 4, 5, and 7 years from now, so I would continue to expect a risk premium for going longer. I assume the risk premium will remain relatively constant, hence I expect (in a probabilistic sense) yields on longer maturities to remain about the same in the future as they are today. It's a bit of a tautology, perhaps not even accurate/helpful. But it works for my feeble mind.

If we assume that PenFed's rates are a temporary outlier (and I agree with you that they likely are), it largely answers the question of whether it's worth it to redeem lower yielding CDs to back up the fixed income truck. For the record, I did: I am transferring just about all of my fixed income outside my 401(k) to these PenFed CDs.

As someone who has had all his taxable fixed income in 6.25% Penfed CDs for the past 7 years, don't forget about tax pain and the possibility of the income nudging you into a higher tax bracket. Taxes especially hurt because even reinvested interest has to be reported every year. You might consider a bit of diversifying with ibonds, which will soften the blow if we get higher inflation and rising interest rates. Ibond tax deferral also takes some of the sting out of CD interest being taxed at ordinary rates.

john94549 wrote:As to IRA CDs, partial withdrawals are permitted with no EWP for folks over 59 1/2. A partial withdrawal is defined as any amount such that the IRA CD balance does not drop below the amount required for opening (i.e., $1000).

That said, I doubt PenFed will be flooded with IRA CD custodian-to-custodian transfers. It's a great rate, to be sure*, but how many folks (a) have a rung maturing, or (b) are willing to break? Don't even get me started on the CSRs. Trying to get the enrollment package is a pain in the you-know-what, and I'm already a member! I have a modest IRA CD maturing in late January, I ordered the transfer forms, and am hoping they arrive.

*Well, not as great as the 3.5% on my other two IRA CDs at PenFed, but everything is "relative".

There's also the stock market that's been rising for 5 years, so most investors aren't eager to lock in 3% for 5 or more years. The same situation occurred in early 2007 when Penfed offered 6.25% CDs--Most investors were more caught up in their slicing and dicing stock gains than in investing in boring CDs, except for early retirees at the early-retirement.org boards, who introduced me to Penfed and their generally superior CD rates.

rj49 wrote:
There's also the stock market that's been rising for 5 years, so most investors aren't eager to lock in 3% for 5 or more years.

I think most of us here understand that stocks and fixed income each has its place in our portfolios. It's more likely that members here have been rebalancing out of stocks than adding to them because they've been going up. It actually seems like posts expressing nervousness about the large gains are becoming common.

Also, one of the beauties of direct CDs with fair early withdrawal terms is that you're not locking in the rate if you don't want to. You may have seen in the thread that some of us are doing early withdrawals from CDs with lower rates (including at PenFed) to jump on this deal. If PenFed offers a 4% CD six months from now, I'll gladly do an early withdrawal from my 3% CD and give up 1.5% (six months interest) to reinvest at 4%.

By contrast, Total Bond Market SEC yield is only about 2%, and if rates increase by one percentage point, the fund value will drop by more than 5%. Maximum loss on the PenFed CD is 3%, and we're earning about 50% more.

rj49 wrote:The same situation occurred in early 2007 when Penfed offered 6.25% CDs--Most investors were more caught up in their slicing and dicing stock gains than in investing in boring CDs, except for early retirees at the early-retirement.org boards, who introduced me to Penfed and their generally superior CD rates.

Again, stocks and fixed income each has its place in our portfolios, and PenFed has been familiar to members of this board for some time. We even have a Wiki article on it.

I didn't get in on the great rates in 2007, but bond funds have done quite nicely since then too. I bought my first PenFed CD in 2010, and published a blog post about it: Kevin On Investing: PenFed 7-Year CD

FYI, PenFed CD rates have not been at all competitive for quite awhile (at least a year) until this recent mind boggling offer. They were quite competitive a few years ago, but then I guess their need for cash dropped off, and their rates tanked.

One suspects it's all about auto and/or adjustable home loan demand. If one lends at 3.5 (or thereabouts) and borrows from others at 3, the business plan makes sense. In any event, even assuming the rate is open when PenFed gets the transfer in late-January, I doubt my modest IRA CD will raise eyebrows. Rest assured, it will not throw me over the NCUA-insured limit.

A few comments/observations:
1. Although I personally know a few of the folks at PenFed, I would not count on what a rep there (or at any credit union or bank) says about the continued availability of a savings/deposit product UNLESS you see that commitment IN WRITING. The nature of balancing deposit flows in as well as flows of funds out usually means that things may change a lot from time to time.
2. As member-owned cooperative institutions, credit unions tend to have (to some degree at least) more incentive/motivation of member satisfaction/benefit than for profit (to stockholders) banks. Such incentive/motivation varies greatly from one credit union to another. Also, for business/profit purposes, banks also have some degree of incentive/motivation of pleasing customers.
3. The CD market for directly purchased/issued CDs from banks and credit unions is driven, to some degree, by financial factors that may vary from merely "market" interest rates. For example, in the last 4-9 months, the rates on brokered CDs (which are more responsive to market rates) have tended to increase more than for CDs that are directly issued.
4. I would never hold a bank or credit union deposit/CD that was not 100% federally insured by FDIC (for banks) or NCUA (for credit unions). Of the approximately 6,000 US credit unions - only about 200 or less are NOT NCUA insured. These are some state chartered credit unions in a few states. Neither would I depend on a sign (NCUA or FDIC insured) in a bank or credit union office or web site when purchasing a CD or making a deposit. I would FIRST go to the FDIC or NCUA web site and look up the bank or credit union to verify federally insured. I would also re-check this status from time to time - just to make sure a merger, conversion to private insurance, etc. had not removed the federal backing. If you are a member of a federally insured credit union - any such change should have notification by that credit union. For Vanguard brokered CDs, I DO depend on Vanguard's representation that all brokered CDs are from FDIC insured banks.
5. If my total holdings in ONE bank or credit union exceeds $250,000 - I would make 100% sure that the NCUA or FDIC coverage was beyond the $250,000 - either that some of the funds are in retirement accounts (separate $250,000 limit) and/or the accounts were set up using beneficiaries and/or individual/joint designations to multiply the federal coverage.
6. For issues/questions such as whether a CD penalty applies to partial early withdrawals or whether a penalty may eat into principal or even whether early withdrawal (with a penalty) is even allowed - read ALL the fine print in the disclosure(s) every time. Any or all of these can change for purchases made now vs. those made in the past.
7. It is close to a zero issue now (with rates so low) but when rates go up - the frequency of compounding/posting of interest will be important in the return you get on CDs with identical rates.

Kevin M wrote:
FYI, PenFed CD rates have not been at all competitive for quite awhile (at least a year) ...

Actually they've had several quite compelling offers over the past 6 months culminating in this offer.

If you include the 2% 3-year and 4-year CDs they began offering in November, I'll grant you a little over one month for "quite compelling" CDs with terms less than five years (but still only just re-joining the competitive 2% club for 5-year CDs). They started moving back into the top tier in October, but nothing particularly compelling compared to the competition, so competitive for a little over two months. Prior to that, there was a six month PenFed dry spell (April through September) unless I missed something.

They were in the top tier in December 2012. In January 2013 they had top rates for some CDs with terms of less than five years, but their 5-year CD was well below the top. I look mainly at 5-year CDs, and for most of 2013 their 5-year rates have not been competitive. By April 2013 they had become noncompetitive for all terms; as noted in Ken Tumin's April 5, 2013 http://www.DepositAccounts.com "Best CD Rates" blog post:

Since PenFed had already cut its CD rates in March, I had hoped they were going to hold them steady in April. Unfortunately, that wasn't the case. On April 1st, PenFed CD rates fell from 25 bps to 40 bps. The highest yield is now only 1.50%, and that's a 7-year term. Due to these rate cuts, I've removed all of PenFed's CDs from my survey except its 7-year CD. Since there are so few 7-year CDs, I'll keep it on the list for now. Hopefully, PenFed will be back with competitive CD rates later this year.

My main point is that PenFed is not always in the top tier for CD rates, and they go through periods when their rates are not at all attractive; they have not been competitive for much of 2013. As others have noted, PenFed seems to offer its best rates in December and January, so I guess if you buy a CD from PenFed in one of those months, you are likely to get a good rate from them when your CD matures.

Kevin M wrote:
By contrast, Total Bond Market SEC yield is only about 2%, and if rates increase by one percentage point, the fund value will drop by more than 5%. Maximum loss on the PenFed CD is 3%, and we're earning about 50% more.

Kevin M wrote:Yes, I think I've always either gotten the transfer form online or had a rep email it to me (at various banks and CUs). Sometimes you can even email a scanned copy back (or fax it), but it depends on whether or not the current custodian will accept a non-original-hardcopy signature.

Kevin

The CSR I spoke with said "No" to emailing a scanned copy. I need to call back and try a different CSR.
Anyone know if Vanguard accepted a scanned signature on a request to transfer?

Kevin M wrote:
By contrast, Total Bond Market SEC yield is only about 2%, and if rates increase by one percentage point, the fund value will drop by more than 5%. Maximum loss on the PenFed CD is 3%, and we're earning about 50% more.

Kevin M wrote:
By contrast, Total Bond Market SEC yield is only about 2%, and if rates increase by one percentage point, the fund value will drop by more than 5%. Maximum loss on the PenFed CD is 3%, and we're earning about 50% more.

Kevin

What happens if rates fall?

Well of course there's an upside as well as a downside to taking risk; otherwise there would be no point in taking risk. My view though is that the lower rates go, the more unsymmetrical the risk. That's why I gradually sold bond funds and bought CDs as rates dropped lower and lower below their historical averages. If rates fall back below the lows (when I last sold any of my bond funds), the value of the 1/3 of my fixed income still in bond funds will increase, and I'll probably sell some more and buy more CDs. If intermediate term bond rates were to get close to 0%, I probably would have sold all of my bond funds.

Conversely, if bond rates increase enough, I'll probably gradually start adding to them, but it will depend somewhat on CD rates at the time.

But let's say TBM yield dropped to 1% in the near term. You'd make a cap gain of about 5%, but now you're earning only 1%, and your total return over the following five years would be about 2% (unless of course at that point you capitulate and buy a higher-yielding CD, in which case you might do better). The PenFed 3% CD still wins over the buy and hold TBMer (this is the scenario G-Money refers to). Of course there are scenarios where TBM wins over the next five years, but as I view it, the odds favor the 3% CD.

I yield to Kevin, as this board's analytic expert on CDs. I'm just an old-fashioned "get a real return" if you can kind of guy. I can keep pretty close tabs on what others think is the inflation rate by simply noting the COLA on my Social Security. If I can make better than that in my fixed-income, with no risk, it's sort of a no-brainer. I'm a "two-percenter or better" at this point.

Kevin M wrote:Yes, I think I've always either gotten the transfer form online or had a rep email it to me (at various banks and CUs). Sometimes you can even email a scanned copy back (or fax it), but it depends on whether or not the current custodian will accept a non-original-hardcopy signature.

Kevin

The CSR I spoke with said "No" to emailing a scanned copy. I need to call back and try a different CSR.
Anyone know if Vanguard accepted a scanned signature on a request to transfer?

FWIW, last time I did an IRA transfer from VG they requested me to send them directly an original hardcopy of the signed document. The copy that was sent to VG from the new custodian was not good enough.

Did you get PenFed to accept an emailed /faxed IRA transfer (or IRA contribution) form in the end?

Let's say, if you moved part of your fixed income allocation from TBM to 3% CDs. Essentially, you have improved the credit quality (FDIC insured) and reduced the interest rate risk. If you wanted to keep a stable risk profile as before, would you also move part of TBM to investment grade corp bonds? If so, would short-term or intermediate term mix better?

Moving from TBM to 3% CDs represents both an increase in expected returns and a decrease in risk. So whether you choose to increase risk elsewhere or simply wish to enjoy the lower risk exposure is a matter of personal preference.

I've been a PenFed member for a couple of years. Last night, I spoke with a PenFed CSR to open some new five year non-IRA CDs. I used money from an existing PenFed savings account to fund three of the CDs. I was also allowed to provide the CSR with the routing and account numbers for my Bank of America account to open up a fourth CD. When I checked my PenFed on-line account this morning, I saw that all four CDs were properly recorded. I also received an email from PenFed alerting me accurately to the Bank of America transfer.

MichDad wrote:I've been a PenFed member for a couple of years. Last night, I spoke with a PenFed CSR to open some new five year non-IRA CDs. I used money from an existing PenFed savings account to fund three of the CDs. I was also allowed to provide the CSR with the routing and account numbers for my Bank of America account to open up a fourth CD. When I checked my PenFed on-line account this morning, I saw that all four CDs were properly recorded. I also received an email from PenFed alerting me accurately to the Bank of America transfer.

I was very impressed by the speed and ease of this process.

When I opened up several CDs online recently, funded with an ACH transfer from another bank/CU, they appeared immediately in my list of accounts showing the full CD values, even though the ACH transfer takes a few days. Online or by phone, very easy, very fast.

Code Commit wrote:Let's say, if you moved part of your fixed income allocation from TBM to 3% CDs. Essentially, you have improved the credit quality (FDIC insured) and reduced the interest rate risk. If you wanted to keep a stable risk profile as before, would you also move part of TBM to investment grade corp bonds? If so, would short-term or intermediate term mix better?

I realize this may be too much fine-tuning, but I am just curious.

Personally I would do the latter for these reasons. TBM holds short-term corporate bonds and treasuries. The PenFed 5-year CD pays much higher interest than treasuries of comparable maturities and short-term corporate bonds, and with with lower risk. So why continue to hold the higher-risk, lower-yielding securities in TBM? So I would consider my CDs as higher-yield, lower-risk replacements for the lower-yield securities in TBM. You can then replace the higher-yielding securities in TBM with intermediate-term investment grade (or perhaps tax-exempt in taxable) bond funds.

I personally hold 2/3 of fixed income in CDs and 1/3 mostly in intermediate-term investment-grade and tax-exempt bond funds. I didn't do this specifically to replicate the risk profile of TBM, but TBM is about 2/3 government bonds, so from a credit-risk perspective I think what I have is similar. From an interest-rate risk perspective, I think what I have is lower risk, because the CDs have much less interest-rate risk than the government securities held in TBM. I actually have a little bit in long-term investment-grade, but TBM holds a much higher percentage in long-term bonds than I do.

Thanks to Kevin M, G-Money and the rest of you CD experts for the discussion and working out the math.

We opened a PenFed account with $5 a few weeks ago and have decided to transfer funds to open CDs, but not sure if we should go with the 4 or 5 year term. What would you suggest in our situation?
We're going to put 100-150K in 25K CDs. Don't anticipate needing the money in the foreseeable future so should we just go for the 5 year term? The only "risk" I see is that rates climb before then, but that's probably doubtful.

We'll still have more cash languishing in Barclays and Citi and wondering if we should move that to CDs also. Would you do that rather than leave a chunk behind at .8 or .9%? That's money we saved for a remodel which we haven't gotten off the ground and at this point will probably scale back on the scope anyway.

Employer sponsored retirement accounts are maxed every year and don't want any of to add this $ to our taxable mutual funds account.

So would you recommend 4 or 5 year term and should we put a larger chunk into these CDs rather than leave a lot behind in the bank at < 1%?

island wrote:
We opened a PenFed account with $5 a few weeks ago and have decided to transfer funds to open CDs, but not sure if we should go with the 4 or 5 year term. What would you suggest in our situation?
We're going to put 100-150K in 25K CDs. Don't anticipate needing the money in the foreseeable future so should we just go for the 5 year term? The only "risk" I see is that rates climb before then, but that's probably doubtful.

I would go 5-year. The 4-year APY is 2.22% and the 5-year APY is 3.04%, so you're getting more than 80 basis points by extending maturity one year, which is well beyond the Larry Swedroe guideline of 20 basis points for each extra year of maturity. Also, even after paying the penalty if you break the 5-year after four years, you will earn slightly more than with the 4-year (about 2.28% vs. 2.22%). If you break after three years, you will earn even more with the 5-year than the 4-year (about 2.03% vs. 1.85%). (These are approximate numbers; you can get more exact numbers by using the Comparing CDs spreadsheet in the Wiki, but the differences are likely to be only a few basis points).

The interest-rate risk you refer to is capped at the amount of the early withdrawal penalty, but it is greater for the 5-year (365 days of interest, or about 3%) than the 4-year (180 days of interest or about 1%), but even so you start pulling ahead with the 5-year in less than three years. So, going with the 5-year is a bet that interest rates won't rise much in three years. I personally went for the 5-year, but if unsure, you could do some of each.

island wrote:We'll still have more cash languishing in Barclays and Citi and wondering if we should move that to CDs also. Would you do that rather than leave a chunk behind at .8 or .9%? That's money we saved for a remodel which we haven't gotten off the ground and at this point will probably scale back on the scope anyway.

It depends totally on your anticipated need for liquidity in the next couple of years. With the PenFed 5-year you earn about 1.5% if you break after two years, and with the 4-year you'd earn about 1.67%, so better than 0.9%. Of course there's always the risk that PenFed will disallow an early withdrawal, and although I personally don't worry much about it, I think it's prudent to have other sources of liquidity if you absolutely needed the money before maturity.

island wrote:
We opened a PenFed account with $5 a few weeks ago and have decided to transfer funds to open CDs, but not sure if we should go with the 4 or 5 year term. What would you suggest in our situation?
We're going to put 100-150K in 25K CDs. Don't anticipate needing the money in the foreseeable future so should we just go for the 5 year term? The only "risk" I see is that rates climb before then, but that's probably doubtful.

I would go 5-year. The 4-year APY is 2.22% and the 5-year APY is 3.04%, so you're getting more than 80 basis points by extending maturity one year, which is well beyond the Larry Swedroe guideline of 20 basis points for each extra year of maturity. Also, even after paying the penalty if you break the 5-year after four years, you will earn slightly more than with the 4-year (about 2.28% vs. 2.22%). If you break after three years, you will earn even more with the 5-year than the 4-year (about 2.03% vs. 1.85%). (These are approximate numbers; you can get more exact numbers by using the Comparing CDs spreadsheet in the Wiki, but the differences are likely to be only a few basis points).

The interest-rate risk you refer to is capped at the amount of the early withdrawal penalty, but it is greater for the 5-year (365 days of interest, or about 3%) than the 4-year (180 days of interest or about 1%), but even so you start pulling ahead with the 5-year in less than three years. So, going with the 5-year is a bet that interest rates won't rise much in three years. I personally went for the 5-year, but if unsure, you could do some of each.

island wrote:We'll still have more cash languishing in Barclays and Citi and wondering if we should move that to CDs also. Would you do that rather than leave a chunk behind at .8 or .9%? That's money we saved for a remodel which we haven't gotten off the ground and at this point will probably scale back on the scope anyway.

It depends totally on your anticipated need for liquidity in the next couple of years. With the PenFed 5-year you earn about 1.5% if you break after two years, and with the 4-year you'd earn about 1.67%, so better than 0.9%. Of course there's always the risk that PenFed will disallow an early withdrawal, and although I personally don't worry much about it, I think it's prudent to have other sources of liquidity if you absolutely needed the money before maturity.

Kevin

Kevin. Thanks you for another great post! Always more info than I could hope for and hearing your rationale is incredibly useful.
So we pulled the trigger on CDs with the 5 year term. Two 25K and counting. 25K (ACH) is the most PenFed allows daily for new accounts so we'll be at it for a few more days. Thanks again.

For those planning to hold the CDs for 2 years, the effective rates are as follows:

- Get a 2-year CD and keep it for 2 years, get 1.41% per year.
- Get a 3-year CD and keep it for 2 years, lose 0.5 year of interest, which is 1.01% and get 1.5 years of interest, or 3.03%, or 1.52% per year.
- Get a 4-year CD and keep it for 2 years, lose 0.5 year of interest, which is 1.11% and get 1.5 years of interest, or 3.33%, which is about 1.67% per year.

For those planning to hold the CDs for 3 years, the effective rates are as follows:

- Get a 3-year CD and keep it for 3 years, get 2.02% per year.
- Get a 4-year CD and keep it for 3 years, lose 0.5 year of interest, which is 1.11% and get 2.5 years of interest, or 5.55%, which is about 1.85% per year.

Thus, the 4-year CD wins for the 2-year and 4-year holding periods, and the 3-year CD wins for the 3-year holding period.

Victoria

Thanks Victoria!

Nice work Victoria.

I am not even going to buy them, but thanks for spitting that out, kinda surprising really.... I guess most just do not even look at it? I assumed they would have been basically identical accounting for penalty.

island wrote:
Kevin. Thanks you for another great post! Always more info than I could hope for and hearing your rationale is incredibly useful.
So we pulled the trigger on CDs with the 5 year term. Two 25K and counting. 25K (ACH) is the most PenFed allows daily for new accounts so we'll be at it for a few more days. Thanks again.

I had heard this but thought, hey, let's test it out. I transferred $75k from Vanguard to PenFed, it arrived in less than two business days, I bought a $75k 5 year CD and it was posted immeditaely! Go figure!

"Every time I see an adult on a bicycle, I no longer despair for the future of the human race." H.G. Wells

Code Commit wrote:Let's say, if you moved part of your fixed income allocation from TBM to 3% CDs. Essentially, you have improved the credit quality (FDIC insured) and reduced the interest rate risk. If you wanted to keep a stable risk profile as before, would you also move part of TBM to investment grade corp bonds? If so, would short-term or intermediate term mix better?

I realize this may be too much fine-tuning, but I am just curious.

Personally I would do the latter for these reasons. TBM holds short-term corporate bonds and treasuries. The PenFed 5-year CD pays much higher interest than treasuries of comparable maturities and short-term corporate bonds, and with with lower risk. So why continue to hold the higher-risk, lower-yielding securities in TBM? So I would consider my CDs as higher-yield, lower-risk replacements for the lower-yield securities in TBM. You can then replace the higher-yielding securities in TBM with intermediate-term investment grade (or perhaps tax-exempt in taxable) bond funds.

I personally hold 2/3 of fixed income in CDs and 1/3 mostly in intermediate-term investment-grade and tax-exempt bond funds. I didn't do this specifically to replicate the risk profile of TBM, but TBM is about 2/3 government bonds, so from a credit-risk perspective I think what I have is similar. From an interest-rate risk perspective, I think what I have is lower risk, because the CDs have much less interest-rate risk than the government securities held in TBM. I actually have a little bit in long-term investment-grade, but TBM holds a much higher percentage in long-term bonds than I do.

Yes, you can hold them in an IRA, but unless you want to take the risk, you are limited to the federal insurance limit of $250K. In a taxable account you often can increase the limit quite a bit by using different ownership categories, but an IRA is basically an ownership category, so no way for a single person to go higher. Of course a couple could do $250K each in IRAs.

This limitation is one reason I did not take advantage of this in my IRA at PenFed. The other is that one of my IRA CDs is earning a higher rate, and the other is earning 2.75% and will mature in about two years.

Also consider that at 25% marginal rate, you still are earning about 2.25% guaranteed after-tax in taxable. Hard to beat.

Kevin M wrote:, but an IRA is basically an ownership category, so no way for a single person to go higher

Doesn't a Roth IRA allow another 250K?
For those with 401K, such as 401k solo, I wonder if could do 1M? Traditional IRA, Roth, 401k, 401k Roth.
250K limit hasn't been an issue for me, so I haven't tried to answer the above.